UK freeports – illicit activity risks to banks and their insurers

On 19 March 2021 the government published its briefing paper on its Freeports Policy following the announcement that eight successful freeport location bidders in England had been chosen to progress to the next stage of the process. This article develops some of the issues raised in our September 2020 thought piece “Does UK’s freeports plan offer a post-Brexit trade solution?” and considers some of the issues and continuing uncertainties surrounding the anticipated governance of the successful freeports.

Why freeports?

Freeports are designated areas (that could be sea ports, airports, or rail hubs) combined with special economic zones or ‘enterprise zones’ where the business and trade laws are different from the rest of the country. They are intended to be national hubs for global trade, hotbeds for innovation, and investment across the UK, benefitting from concessions on customs, tax and planning incentives and reduced red tape.

Freeports are not an alien concept to the UK. There were seven in operation at various points from 1984 to 2012. The Chancellor is a long-term supporter of the freeport concept having described the previous versions in 2016 as being “little more than storage and warehouse facilities with simpler customs formalities” because of the impact of EU state aid rules, which will no longer apply to the successful 2021 bidders following the withdrawal of the UK from the EU.

The chosen few

In the 2021 Budget, the government announced that the following locations in England had been chosen by the Ministry of Housing, Communities and Local Government (MHCLG), to have access to a share of £175 million of seed capital funding (subject to the successful completion of their business case assessments), and to start operating in late 2021:

East Midlands Airport
Felixstowe and Harwich
Humber
Liverpool and City Region
Plymouth and South Devon
Solent
Teeside
Thames

Next steps

During the Summer 2021 the successful bidders will receive funding to set up their ‘Freeport Governance Body’ and work with MHCLG. The successful bidders will also develop an ‘Outline Business Case’ and work with the Treasury and HMRC to agree the boundaries of the proposed tax sites, and set up the HMRC-run authorisation process for freeport operators and business. These bodies will have the ability to withhold or withdraw authorisation if individual sites have not met the required standards.

In 2021-2022 the final business cases will be assessed and, depending on the successful passage of the relevant legislation regarding the tax and customs concessions, the benefits will become available.

Regulation

In line with the government’s stated aim that it does not want the re-introduction of freeports to lead to an increase in illicit activity, it has confirmed that the successful freeports will have to adhere to the OECD Code of Conduct for Clean Free Trade Zones and maintain the current obligations set out in the January 2020 Amendment to the UK’s Money Laundering Regulation 2017.

Further and as part of the current pre-authorisation process, checks will be conducted on freeport operators and businesses operating within them to ensure they do not present an undue risk, and to safeguard that the freeport operators have adequate policies in place to guarantee control over the movement of goods.

Issues

Increased governance required

It is likely that the government will need to publish further guidance on the requirements for physical and technological infrastructure over the successful freeports. The current proposals illustrate widely worded freeport governance, and the apparent deliberate lack of customer regulation has the potential to facilitate all kinds of illicit activities.

According to the UK Government’s bidding Prospectus, the successful freeport governance bodies will need to maintain a record of all businesses operating or applying to operate within the tax site, and it will need to be accessible by HMRC, the NCA, and Border Force operatives. The freeport body will need to work with these agencies, the Home Office and others to actively manage security risks across physical, personnel, and cyber domains and to conduct an annual audit of the security measures in place and any breaches.

Storage monitoring

Whilst it is not envisaged that the UK freeports will provide storage of goods for a lengthy period, they are designed to have goods come into the UK, and storage is therefore inevitable.

If, for example, cocoa beans come into the UK, are processed into cocoa butter, liquor, or powder for export, they will be subject to storage, and those stocks will require adequate monitoring. A bank acting as a commodity trade financier by providing security for commodities such as cocoa stored at the shore side will have existing duties to ‘know your client’ and will need to understand where its valuable commodities are stored.

Finance involvement

Any bank providing commodity trade finance to its customers with goods passing through these freeports will want to know how that person does business, and with whom. The banks should therefore be getting involved now during the current phase of the process where the governing bodies of the freeports are putting measures in place to obtain authorisation from HMRC and to assess the extension of due diligence they will need to make. As part of this, the banks will need to think what security processes are in place, and who runs them.

The time to do so is now, as the successful bidders consider their proposed approach to inventory systems, business registration, physical security, personnel, cyber threats, and international regulations, supply chains and customs subzones.

Comment

Insurers, like the banks, are exposed to money laundering risks. They will also need to know the people they deal with, and to ask about the infrastructure and security in the freeports when expensive commodities are held.

As with all storage and ports, the risks are that there could be misappropriation or theft of the commodity, or it could be used in trade-based money laundering or become a gateway for illicit goods and human trafficking.

It is the government’s intention that the bidders who are unable to demonstrate that adequate consideration of steps to prevent illicit activity has been taken will not be considered for freeport status, but what amounts to adequate consideration is by no means entirely clear at this stage. Commodity trading banks and their insurers should therefore be alive to these issues even at this embryonic stage of the proposed freeports existence.

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